In re Placid Oil Co.

• Court: U.S. Bankruptcy Court — Northern District of Texas
• Writing for the Court: HAROLD C. ABRAMSON
• Citation: In re Placid Oil Co., 140 B.R. 122 (Bankr. N.D. Tex. 1990)
• Decision Date: 15 May 1990
• Docket Number: Bankruptcy No. 386-33419-A-11.
• Parties: In re PLACID OIL COMPANY, Debtor.

140 B.R. 122 (1990)

In re PLACID OIL COMPANY, Debtor.

Bankruptcy No. 386-33419-A-11.

United States Bankruptcy Court, N.D. Texas, Dallas Division.

May 15, 1990.

Khent H. Rowton, Simon, Anisman, Doby, Wilson & Skillern, Fort Worth, Tex., for debtor.

Grover Hartt, III, Tax Div., Dept. of Justice, Dallas, Tex., for The U.S.

SECOND REVISED MEMORANDUM OPINION

HAROLD C. ABRAMSON, Bankruptcy Judge.

Before the Court for consideration is Placid Oil Company's ("Placid's") Objection to Administrative Claim Filed by the Internal Revenue Service ("IRS"). After hearing oral argument on the objection, the Court took the matter under advisement. After reviewing the objecting and responsive documents, the Court denies Placid's objection.

The Court has jurisdiction over this core matter under 28 U.S.C. § 157(B)(2)(A), (B) and (O). Although written in narrative form, this memorandum opinion constitutes the Court's findings of fact and conclusions of law pursuant to Bankruptcy Rule 7052.

I. FACTS

Placid filed a voluntary petition under Chapter 11 of the United States Bankruptcy Code on August 29, 1986, commencing these bankruptcy proceedings. Prior to filing the petition, Placid was indebted to secured creditors for over $770 million, to unsecured creditors for over $50 million, and to tax claimants in excess of $543 million. After Placid unsuccessfully attempted to restructure its debt, the secured creditors initiated foreclosure proceedings against certain of Placid's oil, gas and real estate properties. In response to the impending foreclosures, Placid and Placid Building and Service Company ("PBSC") filed voluntary petitions under Chapter 11 of the United States Bankruptcy Code. The cases were consolidated for administrative purposes.

Placid's bankruptcy was a long and expensive proceeding. In 1986 and 1987, Placid incurred over $7 million in professional expenses. Placid attempted to deduct these expenses as business expenses on their tax returns. The IRS issued a Revenue Agent's Report and Notice of Deficiency to Placid contesting the deductibility of Placid's post-petition professional expenses. Specifically, the IRS disallowed deductions for professional fees and expenses of $1,199,054.91 for the 1986 tax year and $6,938,523.64 in the 1987 tax year for a total of $8,137,578.55. On December 7, 1988, the IRS filed a request for payment of administrative expenses for over $12 million in taxes from tax years 1986 and 1987. Placid then filed an objection to the IRS administrative claim initiating this contested matter.

ISSUES

The issues for determination are: (1) whether Placid or the IRS bears the ultimate burden of proof as to the IRS administrative claim and (2) whether Placid's professional expenses are deductible business expenses under I.R.C. § 162(a).

1. WHO BEARS THE (ULTIMATE) BURDEN OF PROOF?

The Court first addresses the issue of which party bears the ultimate burden of proof for this claim objection. The IRS asserts that in tax court the taxpayer always bears the burden of proof for deductions, and the burden of proof standard should not be different in the bankruptcy arena. Placid responds that in bankruptcy court, the claim objector has the burden of rebutting the claimant's proof of claim, but the claimant bears the ultimate burden of proving the claim.

The Court acknowledges that Placid would bear the final burden of proof in tax court¹, but the tax court burden of proof does not apply to a claim objection contest in the bankruptcy court. Bankruptcy Rule 3001 provides that a correctly filed proof of claim is prima facie evidence of the validity and the amount of the claim. Simmons v. Savell (In re Simmons), 765 F.2d 547, 551-52 (5th Cir.1985). A claim objection by the debtor-in-possession or trustee initiates a contested matter under Bankruptcy Rule 9014, and the objecting party has the burden of producing evidence that rebuts the claim. California State Board of Equalization v. Official Unsecured Creditor's Committee (In re Fidelity Holding Co. Ltd.), 837 F.2d 696, 698 (5th Cir.1988). The objecting party must produce evidence that is "of probative force equal to that of the creditor's proof of claim."² Once the objecting party produces such evidence, the burden then shifts back to the claimant, even a federal or state taxing authority, to prove the claim by the preponderance of the evidence, because the claimant always carries the ultimate burden of proof. In re Fidelity Holding Co., Ltd., 837 F.2d at 698. The IRS has correctly filed its proof of claim creating a prima facie case in its favor.³ Accordingly, Placid must produce sufficient evidence that its professional expenses qualify for business expense deductions to rebut the IRS's prima facie case. If Placid produces such evidence, the burden shifts back to the IRS to show by a preponderance of the evidence that Placid's professional expenses are not deductible. Thus, the Court concludes that the IRS, as claimant, bears the ultimate burden of proof on its administrative claim.

2. SECTION 162(a) BUSINESS EXPENSES

The Court next addresses the issue of whether Placid's professional expenses are deductible business expenses under I.R.C. § 162(a). First, the Court notes that the IRS does not dispute the deductibility of the professional expenses Placid would have incurred irrespective of the bankruptcy.⁴ Thus, the Court need only address the professional expenses Placid incurred related to its bankruptcy.

Section 162(a) allows taxpayers to deduct expenses paid or incurred during the taxable year in carrying on a trade or business.⁵ To qualify as an allowable deduction under § 162(a), the expenses item "must (1) `be paid or incurred during the taxable year,' (2) be for `carrying on any trade or business,' (3) be an `expense,' (4) be a `necessary' expense, and (5) be an `ordinary' expense." Commissioner v. Lincoln Savings & Loan Assoc., 403 U.S. 345, 352, 91 S.Ct. 1893, 1898, 29 L.Ed.2d 519 (1971). In Placid's case, the only dispute is whether Placid's bankruptcy professional expenses meet the ordinariness requirement of § 162(a).

The term "ordinary" has proven to be somewhat illusive. Initially, the Supreme Court defined ordinary based on the frequency of occurrence of the expense or the events that led to the expense.⁶ Currently, courts analyze the ordinariness requirement of § 162(a) in conjunction with I.R.C. § 263(a) which denies current deductions for capital expenses.⁷ Accordingly, courts have developed tests to distinguish business expenses from capital expenses. In Lincoln Savings, the Supreme Court established the "separate and distinct asset" test where a court must determine whether the expense in issue creates or enhances a separate and distinct additional asset in order to ascertain whether an expense is to be capitalized. Lincoln Savings, 403 U.S. at 354, 91 S.Ct. at 1899. Additionally, the Fifth Circuit has held the "one year" rule to be another important test in distinguishing capital expenses from business expenses. Seligman v. Commissioner, 796 F.2d 116, 119 (5th Cir.1986). Under the "one year" rule, courts identify capital expenses on the basis of whether the expense creates an asset that will produce benefits lasting beyond the current fiscal year. Seligman, 796 F.2d at 118.

Applying this analysis to Placid, the Court must determine whether Placid's bankruptcy expenses created or enhanced a separate and distinct asset benefitting Placid's future operations. For example, in a non-bankruptcy setting, reorganization expenses are considered capital expenses because they contribute to the creation of an intangible asset in changing the corporate structure for the benefit of the corporation's future operations.⁸ Moreover, courts have found bankruptcy reorganization expenses to be capital expenses.⁹ Thus, the Court must determine whether Placid's bankruptcy expenses achieved a reorganization creating or enhancing a separate and distinct intangible asset benefitting Placid's future operations.

Placid does not attempt to dispute the authority that reorganization expenses are capital, but instead raises the issue of whether Placid's bankruptcy constituted a reorganization. Placid first contends that a reorganization under Chapter 11 of the United States Bankruptcy Code does not necessarily mean a reorganization takes place. Placid suggests that bankruptcies filed under Chapter 11 of the United States Bankruptcy Code have become a more common business tactic for dealing with creditors, and that businesses filing Chapter 11's do not necessarily intend to reorganize. Placid argues that its motive for filing bankruptcy was to protect its assets from foreclosure; not to reorganize. Placid asserts that courts have recognized that professional expenses in defense of a business and its assets can satisfy the "ordinary" criteria for deductibility under § 162(a) even though such expenses may be uncommon.¹⁰

Placid further contends that its bankruptcy should not be treated as a reorganization, because it does not fit within any of the definitions of I.R.C. § 368(a) which defines types of reorganizations recognized under the tax code.¹¹ Placid notes that its Joint Plan of Reorganization, confirmed on September 30, 1988, provides for payment of all obligations with no issuance of new stock, no change in stock ownership, no change in corporate officers, and no difference from Placid's pre-filing corporate structure. Placid contends that this transaction does not constitute a reorganization under I.R.C. § 368(a). Placid therefore concludes that its bankruptcy professional expenses are not reorganization expenses but qualify as deductible business expenses under I.R.C. § 162(a).

The IRS responds that Placid's bankruptcy proceedings were in substance a reorganization. The IRS argues that Placid was forced to sell substantial assets and reduce its work force. Furthermore, the IRS contends that Placid's bankruptcy was a vehicle for debt...